foreign affairs

Turkey’s Economy Is on a Collision Course With Reality

A woman sits beside a digital billboard giving updates on various currencies and the Turkish stock exchange in Istanbul.
A woman sits beside a digital billboard giving updates on various currencies and the Turkish stock exchange in Istanbul. Photo: Yasin Akgul/AFP/Getty Images

Turkey’s currency, the lira, fell to a record low on Monday as investors panicked over a perfect storm of internal and external factors casting doubt on that country’s economic stability. The lira has fallen 40 percent against the dollar since the start of the year, from 3.8 per dollar to around seven to the dollar, as long-simmering problems with the Turkish economy have begun to boil over.

Turkey’s economy has been on a collision course with reality for years, as President Recep Tayyip Erdogan bought his popularity with low interest rates and cheap credit, which has fueled several years of rapid growth in the country’s real GDP. Unfortunately, it has also fueled high inflation and a massive current account deficit: All that growth was greased with easily available loans in foreign currencies, and with the collapse of the lira, that debt has suddenly become unmanageable.

The Turkish bonanza of the past few years can be easily blamed on foreign financiers, who saw Turkey and other developing economies as attractive investment destinations compared to the ultra-low-interest-rate environments being maintained by central banks in the United States and Europe. Now that interest rates are beginning to rise again in these more stable economies, investors are turning away from emerging markets again.

President Donald Trump’s announcement on Friday that he would double tariffs on steel and aluminum imports from Turkey didn’t help, either. Yet when all is said and done, Turkey’s problems today are entirely of its own making.

Investors are wary of Turkey largely because they are wary of Erdogan: The strongman has run the country for the past 15 years (first as prime minister, and since 2014 as president) and in that time has grown increasingly paranoid and authoritarian. He appointed his son-in-law as minister of finance last month and has attacked the independence of the Turkish central bank. Investors are rightly concerned that a more authoritarian Turkey will be a riskier place to do business.

Erdogan also believes in voodoo economics: The purpose of his recent meddling with the central bank has been to prevent it from raising interest rates, which he believes to be the cause of inflation rather than a cure for it. For a while, it was possible to write this belief off as merely a product of his recognition that low rates mean faster growth and faster growth means more votes for Erdogan. Now, however, it is increasingly clear that Erdogan’s opposition to high interest rates is more fundamental and philosophical, guided perhaps by the Islamic proscription against usury.

The Turkish central bank did finally manage to raise its benchmark interest rate a few times over the past few months, and it now stands at 17.75 percent. This ostensibly large number, however, is only slightly higher than the inflation rate, and not high enough to keep prices from rising further. Further hikes are perhaps inevitable, which will likely stem inflation but grind the economy to a halt, creating massive unemployment and suffering — not to mention political problems for Erdogan.

In his paranoid style, the Turkish leader has been quick to blame his country’s economic troubles on everyone but himself: For years, he has been priming the public to believe that if and when the good times of easy money ended, it would only be because nefarious foreign actors had conspired to end them. He has inveighed against the “interest rate lobby,” the Zionists (naturally!), and anyone else he can blame for his problems. Now, he’s putting that conspiracy theory to work.

In a speech on Sunday, Erdogan urged Turkish businesses not to rush to banks to buy foreign currency. If they do, he warned cryptically, the government might have to resort to “Plan B or Plan C.” Naturally, that sparked rumors that Ankara would impose restrictions on foreign exchange bank accounts. Rather than explain what Plan B and Plan C are, the government merely denied those rumors and opened investigations into 346 social media accounts that were allegedly involved in spreading them.

On Monday, Erdogan doubled down, saying “economic terrorists on social media” had plotted to harm the country by spreading false rumors about the currency and that this “network of treason” would be punished severely. That sounds like a great opportunity for Erdogan to flex some of the new powers he has gained since his re-election and throw a few more of his political enemies in jail. He also repeated his claim that the currency crisis has no real economic basis and is merely a foreign plot.

Turkey is the world’s 17th-largest economy, not that deeply integrated in the global financial system, and not enmeshed in the European system like Greece or Spain, yet its currency crisis has been felt on Wall Street and in stock exchanges around the world. Why are investors around the world panicking over the malaise of this relatively minor country?

For one thing, if all that foreign-currency debt does go unpaid, the owners of that debt will take a hit. Several big European banks own large shares of Turkish banks or their own Turkish subsidiaries. These banks would stand to lose billions if they are forced to write off their Turkish operations — a worst-case scenario they still consider unlikely. Other banks in Europe and the U.S. are exposed through loans to Turkish companies.

A bigger concern is contagion: If Turkey is falling apart due to an exodus of foreign investors chasing a stronger dollar, other emerging markets with lots of dollar-denominated debt, such as South Africa and Argentina, could suffer the same fate. As financiers become nervous about emerging-market debt, credit dries up and outstanding loans are called in all at once, leading to defaults, bank failures, and financial panic that spreads like wildfire through the global banking system. This is a scenario the world has seen play out before.

The other big question is what happens next if Turkey fails to shore up its currency and is left with vast quantities of unpayable debt, as now seems reasonably likely. The country will require a bailout to make its creditors whole, but Erdogan will resist seeking relief from the International Monetary Fund, as IMF bailouts come with conditions of fiscal austerity that would undermine his whole house of cards. Turkey isn’t an E.U. member and can’t turn to the European Central Bank, and fat chance getting a bailout from the Trump administration, even if Turkey’s relations with the U.S. were not at their current nadir.

Other countries that might be more willing to come to Turkey’s rescue include Russia, China, and even conceivably Qatar, but this help would come with its own strings attached and move Turkey, a NATO member, even farther out of the U.S. orbit. Yet even these countries, which have geopolitical rationales to want the kind of influence a bailout buys, are not eager to step up.

China experts say Beijing will likely offer Turkey some form of assistance, on top of the financial deals the countries have already made this year, but is unlikely to offer a bailout sizable enough to stabilize the lira. Anything it does offer will be more a gesture of political solidarity in the face of Trump’s tariffs than a genuine stabilizing measure.

Russia is also not in the best of circumstances to bail out another country right now, with the ruble in bad shape and the country still struggling to get off the ground after its recent recession. Otherwise, this crisis would seem a chance for Russian President Vladimir Putin to snatch Turkey away from NATO and the U.S. sphere of influence for good and all.

Erdogan is unlikely to pull out of NATO at a moment of severe vulnerability, but a helping hand in the form of Russian and/or Chinese cash would give him new friends with whom to nurse his grievances against the U.S. and undermine the Western alliance to their advantage.

Granted, Turkey is a pretty lousy ally at this point, so perhaps this is no great loss. Still, the Turkish crisis and its geopolitical ramifications are signs of the instability of the post–Cold War global order today — a situation our president appears not only ill-equipped to handle but all too happy to exacerbate.

Turkey’s Economy Is on a Collision Course With Reality